SDE vs. EBITDA: What Essential Service Business Owners Need to Know

What Is SDE?

SDE stands for Seller's Discretionary Earnings. It can help describe the total economic benefit available to one owner-operator, but revenue size alone does not determine whether a buyer will use it.

SDE is calculated as:

SDE is intended to describe the total economic benefit available to one owner-operator. Owner distributions are not automatically add-backs, and personal or mixed-use expenses need documentation and buyer review. An expense should not be added back simply because it benefits the owner.

What Is EBITDA?

EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization. It can be useful for businesses of different sizes, but the appropriate measure depends on the operating model and the buyer's underwriting.

EBITDA is defined by the treatment of interest, income taxes, depreciation, and amortization. The metric itself does not assume a particular management structure. A buyer may calculate normalized or adjusted EBITDA using documented, accepted adjustments and may account for the market-based cost of replacing owner responsibilities that must continue after closing. The roles and costs depend on the actual operating model; they should not be assumed from the buyer's category.

Owner compensation is not entirely discretionary when continuing responsibilities require replacement management or labor. Buyer-specific normalized or adjusted EBITDA may reconcile documented owner compensation, related-party expenses, unusual items, and market-based replacement costs. Each proposed adjustment should be supported, accepted by the reviewing parties, and applied only once.

When Does Each Apply?

The operating model helps determine which measure may be informative:

Businesses can sit between these descriptions. Some buyers may consider both measures and reconcile them to the expected post-close operating model. Revenue alone does not determine which metric applies.

The Add-Back Negotiation

Whether a buyer reviews SDE, EBITDA, or both, proposed adjustments require documentation and agreement. A label in the accounting records does not make an item an accepted add-back.

Potential components and adjustments require evidence and buyer review:

• Depreciation and amortization are added in the EBITDA calculation, while ongoing maintenance and equipment-replacement needs are reviewed separately
• Documented owner compensation, reduced by any market-based replacement cost for responsibilities that must continue
• Documented one-time expenses (legal disputes, equipment failures)
• Interest expense on business debt

Add-backs that buyers often challenge:

• Personal expenses that weren't clearly separated from business expenses
• Family member compensation: buyers scrutinize whether the person performs real work
• Vehicles: buyers want to know which vehicles were genuinely business-only
• Charitable contributions or sponsorships the buyer doesn't view as recurring business expenses

Sellers should ask their own CPA and other advisors to prepare a documented reconciliation from reported results to any proposed normalized measure. The schedule should explain each item, include supporting records, account for replacement costs, avoid double counting, and identify adjustments that remain subject to buyer review.